I wish I knew what real assets were, but I’m too embarrassed to ask

The term “real assets” is most commonly used to refer to physical assets, as opposed to financial assets whose value comes from a contractual claim. Traditional examples of real assets include real estate (both residential and commercial), natural resources (energy, mining and agriculture) and infrastructure (transport, utilities and telecoms).

In contrast, stocks and bonds are considered to be financial assets. When you buy one of these, you don’t own something tangible, although the business or loan might in turn be backed by a physical asset. Some assets – such as index-linked bonds – can be expected to deliver real returns (ie, returns explicitly linked to inflation), but are not generally referred to as real assets under this definition.

There are three main benefits that real assets can bring to a portfolio, at least in theory. First, many have historically offered some protection against inflation. For example, some types of infrastructure have a contractual right to raise tolls or tariffs in line with inflation. Property rents can often be increased as inflation rises. In some real-estate sectors it’s increasingly common to have explicit inflation-linked annual increases. Meanwhile, higher commodity prices are often a direct cause of inflation, and

thus commodity-producing assets – and the companies that own them – often do well when inflation is high.

Second, infrastructure and real estate often produce steady, reliable cash flows. There may be some variation depending on the state of the economy, but many sectors are very defensive. But this is not true of commodities – earnings from commodity producers tend to go through cycles of boom and bust.

Third, real assets can add diversification to a portfolio. Since they have different characteristics to financial assets, and often produce strong returns when other assets struggle (such as during high inflation), they can help to deliver smoother overall performance.